Sunday, May 5, 2013

How One Dollar Equals Five Dollars

Recently a friend of mine who owns a small restaurant told me that he thought he might have to close his doors, not because he was losing money but had expected to very soon. He was debating about selling his shop or simply going out of business and fading away.

About five years ago, at the beginning of the recession, he updated his menu, reviewed his costs and priced his offerings using a 40% "cost of food" as his benchmark for pricing his menu items. This gave him a gross profit of 60% before variable and fixed expenses, taxes and left him with a net profit of about 20%. He could just live with that.

He decided to take another look at his costing about a year ago after he noticed his net profit drying up. Sticker shock hit him right between the eyes.

First, he discovered that his "cost of food" percentage had to be lowered to 30% because of rising fixed costs such as insurance, rent and salaried employees. His variable costs were rising rapidly and his food costs had just about doubled.

With all this in mind, he did the math on a couple of his menu items and found a general rule that applied to just about everything on his menu.

Five years ago his average food cost per menu item was about two dollars allowing him to sell things for an average retail of five dollars.

Today that food cost is almost three dollars per menu item which means he has to sell that same item for TEN DOLLARS! That's a five dollar increase in the retail price based on a one dollar increase in food cost.

So he did the unthinkable for any restaurant owner; he renamed all his standard menu items and raised the prices to where they should be. He lost a lot of his old patrons but a funny thing happened, he used social media, updated his website and marketed his new menu to a whole new crowd. This change took several months during which time he was torn between closing the doors and fighting to stay open.

Today he no longer has to compete with McDonald's Dollar Menu for customers. He is doing quite well serving fewer customers and giving more attention to the restaurant's decor and marketing. He is even planning a week's vacation with his family this year.

The recession hit a lot of businesses below the belt. Take the time to review your current position and adapt to this new reality and hopefully continued improvement in the economy.

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